High Liner Foods Inc

TSX:HLF

Earnings Call Transcript

[Operator]

Good afternoon, ladies and gentlemen. Thank you for standing by. Welcome to the High Liner Foods Incorporated Conference Call for Results of the Fourth Quarter of 2019. [Operator Instructions] This conference call is being recorded today, Wednesday, February 26, 2020, at 12 p.m. Eastern Time for replay purposes. I would now like to turn the call over to Heather Keeler-Hurshman, Vice President of Investor Relations and Communications for High Liner Foods. Ms. Keeler-Hurshman, please go ahead.

[Heather Keeler-Hurshman]

Good afternoon, everyone. Thank you for joining High Liner Foods' conference call to discuss our financial results for the fourth quarter of 2019. On the call today from High Liner Foods are Rod Hepponstall, President and Chief Executive Officer; and Paul Jewer, Executive Vice President and Chief Financial Officer. In a moment, I'll pass the call over to Rod for some brief remarks before handing over to Paul, who will review the financial performance for the fourth quarter. Rod will then wrap up the call with an update on our progress against our 5 critical initiatives and our 2020 priorities before opening the call up to questions. I'd like to remind listeners that we use certain non-IFRS measures and ratios when discussing our financial results as we believe these are useful in assessing the company's financial performance. These measures are fully described and reconciled to IFRS measures in our MD&A. Listeners are also reminded that certain statements made in today's call may be forward-looking statements that are subject to risks and uncertainties. Management may use forward-looking statements when they discuss the company's strategy and business in the future. Actual operating or financial results could differ materially from those anticipated in these forward-looking statements.High Liner Foods includes a thorough discussion of the risk factors that can cause its anticipated outcomes to differ from actual outcomes in its publicly available disclosure documents, particularly in its annual report and its Annual Information Form. Please note that High Liner Foods is under no obligation to update any forward-looking statements discussed today. Earlier today, High Liner Foods reported its financial results for the fourth quarter ended December 28, 2019. That news release, along with the company's MD&A and audited consolidated financial statements for fiscal 2019, have been filed on SEDAR and can also be found in the Investor Information section of the High Liner Foods' website. If you'd like to receive our news releases in the future, please visit the company's website to register. Lastly, please note that the company reports its financial results in U.S. dollars and the results to be discussed today are stated in U.S. dollars, unless otherwise noted. High Liner Foods' common shares trade on the Toronto Stock Exchange and are quoted in Canadian dollars. I will now turn the call over to Rod. Rod, please go ahead.

[Rodney W. Hepponstall, President, CEO & Director]

Good afternoon, everyone. Thank you for joining us today. Earlier today, we announced strong financial performance for the fourth quarter and fiscal year-end. Before we review the numbers in detail, here are a few key takeaways. We are continuing to improve the profitability of our business, delivering significant gains in both adjusted EBITDA and adjusted -- and EBITDA as a percentage of sales. These improvements are a direct result of careful and consistent execution against our critical initiative plan. The results from our critical initiatives surpassed our expectations in 2019. What we did -- we did what we said we'd set out to do and more, and we will build on this in 2020. As expected, top line revenue results were impacted by the lost commodity business referred to last quarter. The good news was that our -- that was last quarter, we saw new product sales offset a portion of the volume decline. New product sales contributed more than 2% of growth to sales volume, and we expect this will grow throughout the year. Overall, we are starting 2020 from a much improved financial and operational position. We have successfully refocused our portfolio on higher-margin, value-added products and are now running a far more efficient and integrated business. We expect to continue to benefit from our work last year as we focused on additional cost savings through the course of 2020. We intend to build on our critical initiative work to drive continuous improvement across the business. As you will hear throughout the course of our call today, the combination of our execution success and future plan gives us every confidence that we will strengthen the bottom line even further throughout the year. We expect to continue to drive EBITDA growth as we work to grow the top line of the business, which is now within our sights. Based on our robust innovation pipeline, improved sales and marketing strategy execution and strong market reception to our new products, we expect that by the end of 2020, new business and new product sales will return the company to profitable revenue growth. 2019 was a transformative year for High Liner Foods. We've come a long way in a relatively short period of time and have completed much of the heavy lifting needed to create the conditions for top line growth. I see tremendous opportunity ahead of us as we build on a stronger foundation in 2020. I'll be back shortly to tell you more about that, but first, a detailed financial review from Paul. Paul, over to you.

[Paul A. Jewer, Executive VP & CFO]

Thank you, Rod, and good afternoon, everyone. Please note that all comparisons provided during my financial review of the fourth quarter of 2019 are relative to the fourth quarter of 2018, unless otherwise noted. Before getting into the financial result, I'd like to remind listeners that the company adopted the new lease standard, IFRS 16 Leases, effective December 30, 2018. The implementation of IFRS 16 resulted in additional assets and liabilities on the consolidated statements of financial position of approximately $14.6 million upon transition. And approximately $5.1 million of previously accounted for -- previously accounted for as an operating lease expense is now accounted for as $4.5 million of depreciation expense and $1.4 million of finance costs for fiscal 2019. The new lease standard was adopted using the modified retrospective method, and therefore comparative information for 2018 has not been restated. I also want to highlight the loss on modification of debt recorded in finance costs in the fourth quarter related to the early refinancing of our term loan facility. As previously disclosed, during October 2019, we concluded an amendment of our working capital facility and an early refinancing of our term loan facility. The refinancing of the term loan facility was not assessed as a substantial modification for accounting purposes. And as a result, the deferred finance costs related to the original facility will continue to be amortized over the remaining term. In addition, the company incurred further deferred financing costs on the amended facility of $6.1 million. As the net present value of the cash flows of the modified debt exceeded the carrying amount of the original facility before the amendments, a modification loss of $11 million was recorded in finance costs. The modification loss is excluded from adjusted net income and adjusted diluted earnings per share and is a noncash item. Sales volume decreased in the fourth quarter by 6.4 million pounds to 59.7 million pounds. The decrease reflects lower sales volume in our retail and foodservice businesses, including as a result of lost business in the latter half of fiscal 2018 and the fourth quarter of fiscal 2019 and the exit of low-margin business in 2019, partially offset by new business and new product sales. Sales in U.S. dollars decreased in the fourth quarter by $21.3 million to $221.6 million due to the lower volume mentioned previously and changes in sales mix, partially offset by price increases related to raw material cost increases. Gross profit increased in the fourth quarter by $4.2 million to $44.5 million. And gross profit as a percentage of sales increased by 350 basis points to 20.1% compared to 16.6%. The increase in gross profit reflects the sales price increases discussed previously, favorable product mix related to the exit of low-margin business and improved plant efficiencies, partially due to our supply chain excellence initiatives. This was partially offset by the lower sales volume and raw material cost increases, including tariffs on certain species imported into the U.S. from China. Adjusted EBITDA increased in the fourth quarter by $6.8 million to $18.8 million. And adjusted EBITDA as a percentage of sales increased by 360 basis points to 8.5% compared to 4.9%. This increase reflects the impact of adopting the new lease standard, the increase in gross profit and a decrease in distribution and net SG&A expenses. Adjusted EBITDA in the fourth quarter reflects approximately $3.4 million in cost savings related to our supply chain initiatives. The impact of converting our Canadian dollar-denominated operations and corporate activities to our U.S. dollar presentation currency decreased the value of reported adjusted EBITDA in U.S. dollars by $2.2 million in the fourth quarter of 2019 compared to $1.7 million in 2018.Reported net loss increased in the fourth quarter by $2.2 million to a net loss of $3 million with diluted loss per share of $0.09, compared to a net loss of $800,000 with diluted loss per share of $0.02. The increase in net losses reflects an increase in finance costs due to the modification loss associated with the debt refinancing discussed previously, and higher depreciation and amortization expense largely related to the new lease standard, partially offset by the increase in adjusted EBITDA mentioned previously, a decrease in share-based compensation expense due to a decrease in share price over the fourth quarter and a decrease in short-term termination benefits associated with the organizational realignment announced in November of 2018. The effective tax rate for the fourth quarter of 2019 was a recovery of 34.5% compared to a recovery of 67.8% in 2018. However, the effective tax rate for 2019 on an annual basis was 29.2%, which is more consistent with the statutory rate. Excluding the impact of certain nonroutine and noncash items, which are explained in our MD&A, adjusted net income increased in the fourth quarter by $3.5 million to $5.7 million. And correspondingly, adjusted diluted earnings per share increased by $0.10 to $0.17.Turning now to cash flows from operations in the balance sheet, net cash flows from operating activities decreased by $5.3 million to $51.6 million in fiscal 2019, primarily reflecting unfavorable changes in net noncash working capital, higher interest payments and lower income tax refunds, partially offset by increased cash flow from earnings. Net debt decreased by $14 million to $346.6 million at the end of 2019 compared to $360.6 million at the end of fiscal 2018. Excluding the transitional increase in lease liabilities under the adoption of the new lease standard effective at the beginning of fiscal 2019, net debt decreased by $28.6 million in 2019.Net debt to rolling 12-month adjusted EBITDA was 4.1x at December 28, 2019, compared to 5.8x at the end of fiscal 2018. In the absence of any major acquisitions or strategic initiatives requiring capital expenditures in 2020, we expect this ratio will be lower again at the end of fiscal 2020. That concludes my financial review. And I will now turn the call back to Rod for further color on our achievements for the year and our 2020 priorities.

[Rodney W. Hepponstall, President, CEO & Director]

Thanks, Paul. Now for a brief recap of our achievements of the past fiscal year and highlights from the fourth quarter. It's important to capture this is not just to demonstrate the extent of the transformation that has taken place at High Liner Foods, but also to illustrate how we will continue to build on our success in 2020.I'll start with our portfolio. Last year, we eliminated 235 products and 8 species. As a result, our product portfolio is much more market relevant, streamlined and focused on higher-margin, value-added products. It also targets a variety of different eating occasions throughout the year, ensuring that our seafood products are appealing and relevant across the calendar. Moving forward, we will be disciplined in terms of species growth, we will rebalance our portfolio as needed to support an optimal mix for customer and consumer demand, diversification and of course, profitability.Our ability to extract value from our more focused portfolio rests on the strength, flexibility and efficiency of our supply chain. We undertook a comprehensive assessment of our end-to-end supply chain last year, carefully reviewing each component for opportunities to remove complexity, drive efficiency and lower costs. We completed this review without customer disruption while simultaneously generating roughly $10 million in cost savings in 2019, with more to come in 2020 as we continue this work. In 2020, we will continue to make portfolio-related improvements in our supply chain, including eliminating less profitable products and harmonizing raw materials, ingredients and packaging. This will not only drive further efficiencies across the supply chain, but also across many other areas of our business. Over the last year, I've spoken many times about how key our One High Liner Foods initiative has been to our ability to execute on our other critical initiatives in 2020. We will continue to strengthen our North American structure for maximum effectiveness. We are setting ourselves up to operate more profitably than ever before, all while creating conditions for top line growth. Speaking of top line growth, our fourth quarter saw further gains in terms of customer response to our new value-added products, and we are developing a robust innovation pipeline to keep this going. Our Fish Wings and Haddock Bites are now listed in over 95% of our priority retailer accounts, and we have already secured hundreds of points of foodservice distribution for both products. I'm also pleased to report that the cross-border success of our Pan-Seared product line continues. In the fourth quarter, 2 major U.S. retailers listed the product, with one of them immediately supporting those with prime in-store display locations and promotional activity. We are also building on the success of High Liner Miso Cod in the north -- in the U.S. northeast. And in partnership with a major retailer, we are expanding this product to more regions in the Midwest and Western Canada. This is great -- this is a great prelude to the broader retail and foodservice product expansions in the fall. Our strategy to expand seafood in eating occasions is working. It's no longer just about Lent. We have expanded the important January to April consumption period across 3 platforms: healthy resolutions, snacking and in Lent, ensuring there is always a reason and an occasion for our seafood products. Early results on our value-added innovation this year have been favorable and underpinned by targeted and multichannel marketing campaigns, including a Seafood is Better retail campaign, successful PR initiatives related to Super Bowl snacking and entertaining, and significantly improved sales execution. We will continue to focus on driving increased seafood consumption in underdeveloped seasons, and we are excited about our spring launches designed to coincide and capitalize on the growing grilling consumption periods. We intend to accelerate value-added product innovation through the course of the fiscal 2020, including in shrimp, an area fast growing that we are well positioned to leverage due to our Rubicon integration efforts last year. Thanks to the work we are doing to improve our business processes, we will be able to get these products to market more efficiently, more profitably and faster than ever before. We also expect the growth in 2020 will come from simply selling more value-added winners we already have in our portfolio today. Through the course of this year, we will be introducing products to new customers, consumers, geographies and channels, just as we have done with our Pan-Seared and GUINNESS Distinctive Seafood product lines. We are confident that this approach will start to deliver profitable and sustainable revenue growth by the end of this year. In the meantime, we expect that additional supply chain initiatives in 2020 will continue to improve profitability and drive EBITDA growth. Each area of our business has a vital role in achieving this goal and helping us to consistently deliver on -- to deliver the right product to the right customer at the right price. We are proactively seeking out the right customer and showing up for them in a much more targeted and impactful way. We are already seeing the results in product placements and expanded distribution and there is opportunity for much more of this ahead as we leverage our more focused portfolio, leverage our more efficient and flexible end-to-end supply chain, and further optimize internal processes. In sum, I hope you can see why we are both proud of our performance last year and confident in these results we can generate throughout the continued focused execution in the year ahead. I will end by sharing a quote we repeat frequently inside of High Liner Foods. "Yesterday's home runs don't win today's games." These are words we are living by. We know there is more to do, and we are poised to deliver. I will now hand back -- the call back to the operator for questions. Operator?

[Operator]

[Operator Instructions] Our first question comes from George Doumet with Scotiabank.

[George Doumet, Analyst]

Rod, in your prepared remarks, you called out new business, new products accounting for 2% of the organic growth. Can you give us a little -- maybe a flavor on what those -- maybe those products or business was? And what margin does that come in at? And do you expect that cadence to improve in Q1?

[Rodney W. Hepponstall, President, CEO & Director]

Yes. Absolutely. Number one, I've been very, very pleased with the innovation we brought to market, hence, the significant growth in fourth quarter, and quite frankly, early start here in the year. Those would be products, our Alaskan Wild Wings, our Fish Wings product, our Haddock Bites. We're seeing new products come in, Miso Glazed Cod product that was an LTO last year. Now we're certainly repeating our Pan-Seared product that we've brought to the States. It was a very, very successful product for us in Canada, which is now listed in over 1,600 stores in the United States already and growing with significant momentum.Those efforts resulted in fourth quarter product sales, new product sales of over 1.5 million pounds. But we've been very, very pleased with the introduction of those products. As a matter of fact, Fish Wings right now is -- and as I mentioned, 95% of our 36 targeted priority retailers, which represents, quite frankly, almost 10,000 distribution points for us across North America, making it one of, if not the most successful product launch we've had as a North American entity. So we're very, very pleased with our ability to bring new products to market, execute with precision and certainly get these new great products in consumers' hands.

[Paul A. Jewer, Executive VP & CFO]

And to your question on margin, George, because these are value-added products, these would be at a higher margin than our average margin, given that we typically get lower margins on our commodity business. So very pleased that we're able to have new product innovation that is accretive to margins.

[George Doumet, Analyst]

Okay. Great, Paul. And just on that point, after accounting for promotions and all the advertising behind that, would that still be significantly margin accretive?

[Paul A. Jewer, Executive VP & CFO]

It was margin accretive in the quarter. Absolutely.

[George Doumet, Analyst]

Okay. Great. Just shifting gears to, obviously, the coronavirus, can you maybe remind us of what percentage of our raw materials, I guess directly or indirectly, come from China or Asia? And just wondering how many months of inventory do we have? And are we seeing any impacts in Q1 and kind of what your expectation is there?

[Paul A. Jewer, Executive VP & CFO]

Yes. Sure. So obviously it's still -- we're still in the middle of the coronavirus outbreak. I won't talk about the overall economic impact because I think it's too early to talk about how that will impact North American or global economy. But in terms of our business more specifically, as you know, it doesn't have an impact on sales for us because we only sell into North America, and we certainly haven't seen any decline in North American sales at this stage. In terms of our supply chain, which you referred to, we do have a large volume of processing, primary processing, that happens in China and other parts of Asia. So obviously, we're monitoring the situation very closely. But as you referred to, we carry significant inventory at this time of the year. So we build up inventory to support our first quarter Lent business. And we do that in advance of Chinese New Year because the plants typically go down -- go through a shutdown period for Chinese New Year. So before this became a significant issue, we were well-stocked with inventory that typically can carry us for most products through to late May and early June. So not a significant issue for sure in the first quarter in terms of disruption.Obviously, as we look further, we need to assess what kind of impact this will have. For February, we weren't anticipating much volume coming from our Asian processors, so no issue there. And at this stage, we are seeing processing plants start to continue to run. They are able, in many cases, to get workers back to those plants as they come out of quarantine and the geographies that they may be in. So we are not anticipating a significant disruption in our supply at this point, unless things get worse than what they are today. And we do have a number of mitigation plans that we've already executed on to help reduce the risk, including a number of plans that we started some time ago to reduce our reliance on Chinese processors as risk reduction for our business overall.

[George Doumet, Analyst]

Just to clarify that statement, so in terms of inventories, we're pretty comfortable until late May, early June.

[Paul A. Jewer, Executive VP & CFO]

Correct.

[George Doumet, Analyst]

Okay. Great. And just one last one for me, Paul, on the CapEx, it looks like it's -- I know you guys are calling out $50 million for 2020. It seems like it's a lot higher than last year. I guess first question is, what's going on there? Why? And second question is we did a pretty good job on the working capital reversal for the year. I think we were -- we got $9 million back. Do you expect to have the same kind of amount for 2020?

[Paul A. Jewer, Executive VP & CFO]

Yes. So on CapEx, you're right, it was particularly low in 2019. Part of that was us choosing not to spend capital as we continued to focus on our debt reduction. But part of that was us also having significant opportunity to improve the performance of our plants without having to spend CapEx. So now as we look at 2020, we do see some opportunities, both to increase our level of maintenance CapEx and to invest in some areas where we can see some operational improvement that will come. So we'll get back to what I would say is a more typical number between $10 million and $15 million on an annual basis for us. And we've got that built into our plan that would still allow us to improve leverage through fiscal 2020. On the working capital point, yes, I agree. I think we've been pleased with our working capital performance over the last couple of years. It has certainly supported our debt reduction initiatives. And we do believe that we still have some opportunity on working capital in 2020. I don't believe it will be to the magnitude it's been over the course of the last 2 years, but it will be, I believe, supportive of our further debt reduction initiatives as we go forward.

[Operator]

[Operator Instructions] Our next question is from Saba Khan with RBC Capital Markets.

[Christopher Emilio Carril, Analyst]

It's Chris on for Saba. On your expectations for positive revenue growth exiting 2020, can you provide a bit more color on how you view the relative contribution from both pricing and volume growth, and how you see the volumes trending over the course of 2020?

[Paul A. Jewer, Executive VP & CFO]

So I'd say it's a combination of both. We do see improvement in the volume trend as a result of what we've seen in terms of early progress on our innovation initiatives, but also our improved sales and marketing execution. And we do expect there will be some inflation in -- on the pricing side. But at this stage, subject to what may happen in the supply chain related to tariffs and disruption from coronavirus, et cetera, I would say that would be moderate inflation would be our expectation. So I think the biggest improvement in trend for 2020 versus 2019 is on the volume side rather than on the dollar side.

[Rodney W. Hepponstall, President, CEO & Director]

Yes. And Chris, I would add, the sales execution side can't be, I guess, understated. We have spent the better part of 2019 positioning the organization not only from structural competency, sales compensation adjustments, all the things we've talked about previously. And we're beginning to see the absolute results of those changes that were made. And so we feel very, very confident with the approaches we have, both in a North American foodservice as well as retail market and have the appropriate strategies to be, I would say, locally relevant by all means.

[Christopher Emilio Carril, Analyst]

Okay. Great. That's very helpful. And then related to your ongoing critical initiatives, you noted in 2019 that you eliminated about 230 products in each species. Can you talk about where you currently are in the process? And if you have existing plans for further product simplification in 2020? Or whether it will be more opportunistic on a go-forward basis?

[Rodney W. Hepponstall, President, CEO & Director]

So we've got very definitive plans as to our portfolio optimization. So the -- all, quite frankly, aspects of our portfolio are being reviewed. We expect further declines in the total number of SKUs we carry as we carry forward what we've historically called our simplification project. We're also looking at aspects of harmonization. So products that are similar in our portfolio that may not be fully harmonized, to maximize the efficiencies in the plant, we're taking a look at those as well. So I would suggest that our performance as it relates to the number of SKUs this year, or I guess I'd say in 2019, would be a similar objective that we would have in 2020. Potentially not the number of species because we took a number of species -- 8 species out, but again, we will continue to evaluate to ensure that we have the most consumer- and customer-relevant product portfolio available.

[Operator]

There are no further questions at this time. I turn the call back to Rod Hepponstall for closing remarks.

[Rodney W. Hepponstall, President, CEO & Director]

Thank you. To close, I want to thank you for joining our call today. And we look forward to updating you with the results of the first quarter of 2020 on our next conference call in May. Thank you.

[Operator]

This concludes today's conference call. You may now disconnect.